Roadmap for 2016
Fears of global recession hit markets hard at the start of the year. Yet the anxiety has waned. What’s in store for investors in the quarter ahead? Our new global chief investment strategist and leading BlackRock portfolio managers provide a roadmap.
We see financial markets today dominated by three key themes:
1. Low returns ahead
We are living in a low-return world. Quantitative easing (QE) and negative interest rate policies have inflated financial markets. Many assets have had a great run since the financial crisis. This means future returns are likely to be more muted. We have been borrowing from the future.
2. Divergence is slowing
Monetary policy divergence — a key driver of the U.S. dollar’s gains — looks to be slowing. The eurozone and Japan are reaching the limits of negative interest rates, and we see future easing coming through QE. The Fed has signaled a slower pace of rate increases. This bodes well for markets.
3. Volatility and opportunity
We expect more volatility as the Federal Reserve (Fed) normalizes policy, the business and credit cycles mature, and risks come to the fore. We see sharp momentum reversals as many investors have piled into similar, correlated trades. This means diversification and security selection are key.
The chart below addresses the third of the themes above. Valuations rose across the board during the years of QE, both within and between markets, as investors indiscriminately bid up asset prices. Yet dispersion – the gap between winners and losers within markets – is set to rise as the Fed lifts raises interest rates and lurking tail risks come to the fore. This argues for an active approach to investing, we believe. It creates opportunities for security selection, but raises the importance of diversification.
Cross-sectional global equity return dispersion, 2008–2016
Sources: BlackRock Investment Institute and MSCI, March 2016. Notes: Cross-sectional return dispersion is the standard deviation of monthly returns of individual securities within the MSCI World Index. QE refers to the U.S. Federal Reserve’s quantitative easing programs.
Other key highlights
- Key downside risks are a Chinese yuan devaluation and a U.K. exit from the EU. Upside risks are an emerging market (EM) rebound and a rise in inflation expectations on improving growth prospects.
- Income is king in a low-return environment. We like value equities and dividend growers. We are neutral on credit but favor it over government bonds. And we are warming up to selected EM assets.